Cyprus Exposes Chaos to Come

There was celebration today at the news that a deal has been reached which will save Cyprus at the expense of those savers with over £85,000. Unfortunately, now that the EU has officially declared its position, it seems that they have chosen to take the side of debtors over citizens. With the decision to seize the savings of those deemed ‘wealthy’, the EU has set a precedent which will make the following year even more unstable than the one just past.

2012 was the year of the bailout, with economic news revolving around a series of increasingly desperate measures to try and deal with Europe’s catastrophic debt problem. Looking back over the financial news, it is almost funny how the EU continued to try and do the exact same thing on an almost monthly basis, and was continually taken by surprise when repeating the same motion as before failed to win the day. What we’ve seen in the first three months of this year is a continuation of that flawed attempt to prop up a corrupt and failed banking sector by throwing taxpayer money at the problem.

Cyprus does mark a turning point, though. With the decision to support the bailout by seizing the savings of those in the banks – even just those with over £85,000 – the EU seems unaware of what this means. It is no longer possible to see any European bank as a safe place to put large sums of money. Cyprus was saved in part because of the large exposures other European banks have to the Cypriot debt, and the fact it was feared that if the banks collapsed, other banks would soon follow. This interconnectedness of the banking system has been at the heart of the European financial crisis since it began.

It doesn’t take much to realise the problems here. If you were one of the top one per-cent, with a fortune in the bank, you would have to be stupid to leave it there now. Europe has proven that it is perfectly happy to punish those foolish enough to trust their banks with their money in order to try and prop up the sector as a whole. As a result, over the next few days it is likely that wealthy individuals and businesses will begin closing accounts and shifting fortunes to other places perceived as untouchable by Europe’s sticky fingers. I wouldn’t be surprised to see that off-shore banking and American banks in particular benefit greatly from the Cypriot bailout when we look back in ten years’ time.

Unfortunately, Europe’s banks are not in a position, despite years of bailouts and hand-wringing from the EU, where they can survive the sudden liquidity crisis this will bring about. As a result, more countries will ask for more bailouts. More banks will teeter on the brink of collapsing entirely and taking people’s savings with them. This is because the constant bailouts have not addressed the fundamental weakness that has pervaded the banking sector across Europe over the past decade. If anything, continuing to provide bailout after bailout has only succeeded in placing the sector on life support. If we consider the bad debt as the disease, a continued lack of growth and sickly economy has just helped grow the likelihood of more bad debt whilst making it difficult – almost impossible – to protect against the existing mountain of it that banks are holding.

This has been evident nowhere more clearly than Cyprus’ neighbour, Greece. If the EU had simply paid off all of Greece’s debts in 2008 – when they stood at 260 billion Euros – it would have saved a massive amount of money. As of January 2012, total EU bailouts to Greece amounted to 340 billion Euros, because continued instability, a weak economy, and a starving population meant that the government needed to borrow more to try and keep its public sector operating, something which they arguably failed to manage anyway.

Rather than learn the lessons of Greece, the EU has remained wed to the idea that those nations most heavily indebted must be punished for their sins. In doing so, they’ve finally taken a step too far and slapped the very people they were meant to be protecting in the face. Although choosing to tax only those with large savings is an easy political compromise, the ramifications are now going to start spreading. Whilst the EU prides itself on saying that it is ready to take difficult decisions when needed to deal with the debt crisis, what they’ve proven over the past week is quite the opposite. The countries in the EU are incapable of working together when it matters. They have been unable to grasp the consequences of their actions in the past, and do not understand what their actions mean for the future. Now we just have to wait and see which country’s banks are finally strong enough to drag them under completely.